- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
---------------
FORM 10-Q
(X) Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarterly Period Ended June 30, 1998
OR
( )TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from to
Commission File Number 1-11856
================================================================================
TIG HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Delaware 94-3172455
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
65 East 55th Street, 28th Floor
New York, New York 10022
(Address of principal executive offices)
(212) 446-2700
(Registrant's telephone number, including area code)
================================================================================
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No _____
Number of shares of Common Stock, $0.01 par value per share,
outstanding as of close of business on June 30, 1998: 50,955,718 excluding
16,258,097 treasury shares.
<PAGE>
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TIG HOLDINGS, INC.
INDEX TO FORM 10-Q
PART I. FINANCIAL INFORMATION Page
Item 1. Financial Statements
Condensed consolidated balance sheets as of
June 30, 1998 (unaudited) and December 31, 1997 ....................3
Condensed consolidated statements of income
for the three and six months ended June 30, 1998
(unaudited) and June 30, 1997 (unaudited).. .......................4
Condensed consolidated statement of changes
in shareholders' equity for the six months
ended June 30, 1998 (unaudited).....................................5
Condensed consolidated statements of cash
flow for the six months ended June 30, 1998
(unaudited) and June 30, 1997 (unaudited)...........................6
Notes to condensed consolidated financial
statements (unaudited)..............................................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations......................11
2.1 Consolidated Results...............................................12
2.2 Reinsurance........................................................14
2.3 Commercial Specialty...............................................16
2.4 Custom Markets.....................................................18
2.5 Other Lines........................................................20
2.6 Investments........................................................21
2.7 Reserves...........................................................24
2.8 Liquidity and Capital Resources....................................25
2.9 Year 2000..........................................................27
2.10 Forward-Looking Statements.........................................28
2.11 Glossary...........................................................29
PART II. OTHER INFORMATION
Item 1. Legal Proceedings..................................................31
Item 4. Submission of Matters to a Vote of Security Holders................32
Item 6. Exhibits and Reports on Form 8-K...................................33
SIGNATURE ...................................................................34
<PAGE>
TIG HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30, December 31,
(In millions, except share data) 1998 1997
- ---------------------------------------------------------------------------- ------------------ ------------------
<S> <C> <C>
Assets (unaudited)
Investments:
Fixed maturities at market $4,006 $3,874
(cost: $3,859 in 1998 and $3,725 in 1997)
Short-term and other investments (cost: $187 in 1998
and $316 in 1997) 190 318
- ---------------------------------------------------------------------------- ------------------ ------------------
Total investments 4,196 4,192
Cash 33 18
Accrued investment income 55 56
Premium receivable (net of allowance of: $5 in 1998
and 1997) 536 453
Reinsurance recoverable on paid losses (net of allowance of: $5 in
1998 and $6 in 1997) 115 125
Reinsurance recoverable on unpaid losses 1,733 1,404
Deferred policy acquisition costs 172 155
Prepaid reinsurance premium 159 177
Income taxes 97 140
Other assets 174 147
- ---------------------------------------------------------------------------- ------------------ ------------------
Total assets $7,270 $6,867
- ---------------------------------------------------------------------------- ------------------ ------------------
Liabilities
Reserves for:
Losses $3,500 $3,459
Loss adjustment expenses 477 476
Unearned premium 761 738
- ---------------------------------------------------------------------------- ------------------ ------------------
Total reserves 4,738 4,673
Reinsurance premium payable 129 61
Funds withheld under reinsurance agreements 527 319
Notes payable 178 122
Other liabilities 345 379
- ---------------------------------------------------------------------------- ------------------ ------------------
Total liabilities 5,917 5,554
- ---------------------------------------------------------------------------- ------------------ ------------------
Mandatory redeemable 8.597% capital securities of subsidiary trust 125 125
- ---------------------------------------------------------------------------- ------------------ ------------------
Mandatory redeemable preferred stock 25 25
- ---------------------------------------------------------------------------- ------------------ ------------------
Shareholders' Equity
Common stock - par value $0.01 per share 1,269 1,257
(authorized: 180,000,000 shares; issued and outstanding:
67,572,612 shares in 1998 and 66,955,288 shares in 1997)
Retained earnings 299 253
Accumulated other comprehensive income 96 96
- ---------------------------------------------------------------------------- ------------------ ------------------
1,664 1,606
Treasury stock (16,258,097 shares in 1998 and 15,597,021
shares in 1997) (461) (443)
- ---------------------------------------------------------------------------- ------------------ ------------------
Total shareholders' equity 1,203 1,163
- ---------------------------------------------------------------------------- ------------------ ------------------
Total liabilities and shareholders' equity $7,270 $6,867
- ---------------------------------------------------------------------------- ------------------ ------------------
<FN>
See Notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
1
<PAGE>
TIG HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ----------------------------
(In millions, except per share data) 1998 1997 1998 1997
- -------------------------------------------------------- ------------- ------------- -------------- -------------
<S> <C> <C> <C> <C>
Revenues
Net premium earned $374 $358 $734 $711
Net investment income 60 73 126 148
Net realized investment gain 1 4 3 5
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Total revenues 435 435 863 864
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Losses and expenses
Net losses and loss adjustment expenses incurred 246 250 492 502
Commissions and premium related expenses 84 80 163 158
Other underwriting expenses 41 32 78 64
Corporate expenses 16 11 29 19
Interest expense 5 5 11 10
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Total losses and expenses 392 378 773 753
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Income before income tax expense 43 57 90 111
Income tax expense 13 18 27 36
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Net income $30 $39 $63 $75
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Net income per common share
Basic $0.57 $0.74 $1.21 $1.41
Diluted $0.56 $0.72 $1.19 $1.36
- -------------------------------------------------------- ------------- ------------- -------------- -------------
Dividend per common share $0.15 $0.15 $0.30 $0.30
- -------------------------------------------------------- ------------- ------------- -------------- -------------
<FN>
See Notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
2
<PAGE>
TIG HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENT
OF CHANGES IN SHAREHOLDERS' EQUITY
(Unaudited)
<TABLE>
<CAPTION>
Accumulated Other Total
Comprehensive Share-
Common Retained Income Treasury holders'
(In millions) Stock Earnings Stock Equity
---------------------------------- ------------- ------------- ------------------ ------------- -------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1997 $1,257 $253 $96 ($443) $1,163
Net income 63 63
Common and preferred stock
dividends (17) (17)
Common stock issued 10 10
Amortization of unearned
compensation 2 2
Treasury stock purchased (18) (18)
---------------------------------- ------------- ------------- ------------------ ------------- -------------
Balance at June 30, 1998 $1,269 $299 $96 ($461) $1,203
---------------------------------- ------------- ------------- ------------------ ------------- -------------
<FN>
See Notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
3
<PAGE>
TIG HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
(Unaudited)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
------------------------------------
(In millions) 1998 1997
--------------------------------------------------------------------- ----------------- ------------------
<S> <C> <C>
Operating Activities
Net income $63 $75
Adjustments to reconcile net income to cash provided by (used
in) operating activities:
Changes in:
Accrued investment income 1 (4)
Premium receivable (83) (37)
Reinsurance recoverable (319) (63)
Deferred policy acquisition costs (17) (14)
Prepaid reinsurance premium 18 14
Income taxes 43 23
Loss reserves 41 (2)
Loss adjustment expenses reserves 1 (74)
Unearned premium reserves 23 29
Reinsurance premium payable 68 41
Funds held under reinsurance agreements 208 51
Other assets, other liabilities and other 10 (52)
--------------------------------------------------------------------- ----------------- ------------------
Net cash provided by (used in) operating activities 57 (13)
--------------------------------------------------------------------- ----------------- ------------------
Investing Activities
Purchases of fixed maturity investments (1,616) (1,470)
Sales of fixed maturity investments 1,232 1,357
Maturities and calls of fixed maturity investments 217 134
Net decrease (increase) in short-term and other investments 129 (5)
Other (36) (10)
--------------------------------------------------------------------- ----------------- ------------------
Net cash provided by (used in) investing activities (74) 6
--------------------------------------------------------------------- ----------------- ------------------
Financing Activities
Common stock issued 10 9
Treasury stock purchased (18) (106)
Mandatory redeemable capital securities issued - 125
Common stock and preferred stock dividends (17) (17)
Increase in notes payable 56 -
Other 1 1
--------------------------------------------------------------------- ----------------- ------------------
Net cash provided by financing activities 32 12
--------------------------------------------------------------------- ----------------- ------------------
Increase in cash 15 5
Cash at beginning of period 18 19
--------------------------------------------------------------------- ----------------- ------------------
Cash at end of period $33 $24
--------------------------------------------------------------------- ----------------- ------------------
<FN>
See Notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
4
<PAGE>
TIG HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the Six Months Ended June 30, 1998
(Unaudited)
- --------------------------------------------------------------------------------
NOTE A. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- --------------------------------------------------------------------------------
Basis of Presentation. TIG Holdings, Inc. ("TIG Holdings") is primarily engaged
in the business of property/casualty insurance and reinsurance through its 14
domestic insurance subsidiaries (collectively "TIG" or the "Company"). The
accompanying unaudited condensed consolidated financial statements include the
accounts of TIG Holdings and its subsidiaries and have been prepared in
accordance with generally accepted accounting principles ("GAAP") for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by GAAP for complete financial statements. Financial
statements prepared in accordance with GAAP require the use of management
estimates. In the opinion of management, all adjustments, including normal
recurring accruals, considered necessary for a fair presentation have been
included. Certain reclassifications of prior year amounts have been made to
conform with the 1998 presentation.
Operating results for the six months ended June 30, 1998 are not necessarily
indicative of the results to be expected for the full year. Operating results
for the second half of 1998 could decline from those reported for the first half
of the year. For further information, refer to Item 2. Management's Discussion
and Analysis of Financial Condition and Results of Operations included in this
Form 10-Q and TIG's annual report on Form 10-K for the year ended December 31,
1997.
Earnings per Share ("EPS"). Basic EPS is calculated based upon the weighted
average common shares outstanding ("average shares") during the period. In order
to calculate EPS, unallocated Employee Stock Ownership Plan shares and treasury
shares are deducted from the outstanding common shares. For diluted EPS, common
stock options increase weighted average shares outstanding to the extent that
they are dilutive. To obtain net income attributable to common shareholders for
EPS computations, the preferred stock dividend is deducted from net income. The
following schedule presents the calculation of Basic and Diluted EPS:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------ --------------- ---------------
(In millions, except earnings per share) 1998 1997 1998 1997
- ------------------------------------------------- --------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Numerator:
Net income $30 $39 $63 $75
Less: Preferred stock dividends 1 1 1 1
- ------------------------------------------------- --------------- --------------- --------------- ---------------
Income available to common stockholders $29 $38 $62 $74
Denominator:
Weighted average shares outstanding
for basic EPS 51.2 51.8 51.2 52.6
Effect of dilutive options 0.8 1.6 1.1 2.1
- ------------------------------------------------- --------------- --------------- --------------- ---------------
Adjusted weighted average shares
for diluted EPS 52.0 53.4 52.3 54.7
Basic EPS $0.57 $0.74 $1.21 $1.41
- ------------------------------------------------- --------------- --------------- --------------- ---------------
Diluted EPS $0.56 $0.72 $1.19 $1.36
- ------------------------------------------------- --------------- --------------- --------------- ---------------
</TABLE>
5
<PAGE>
TIG HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the Six Months Ended June 30, 1998
(Unaudited)
- --------------------------------------------------------------------------------
Investments. Fixed maturities are classified as available for sale, as TIG has
no positive intent to hold such securities until maturity, and are carried at
market value. Short-term investments are carried at cost, which approximates
market value. Market value is principally based upon quoted market prices.
Quoted market prices are available for substantially all securities held by the
Company. The difference between the aggregate market value and amortized cost of
securities, after deferred income tax effect, is reported as unrealized gain or
loss as a component of accumulated other comprehensive income directly in
shareholders' equity and, accordingly, has no effect on net income.
Loss and Loss Adjustment Expense Reserves. The liability for loss and loss
adjustment expenses ("LAE") is based on an evaluation of reported losses and on
estimates of incurred but unreported losses ("IBNR"). The reserve liabilities
are determined using estimates of losses for individual claims (case basis
reserves) and statistical projections of reserves for IBNR. Management considers
many factors when setting reserves, including: (i) current legal interpretations
of coverage and liability; (ii) economic conditions; and (iii) internal
methodologies which analyze TIG's experience with similar cases, information
from ceding companies and historical trends, such as reserving patterns, loss
payments, pending levels of unpaid claims and product mix. Based on these
considerations, management believes that adequate provision has been made for
TIG's loss and LAE reserves. Actual losses and subsequent developments or
revisions to the estimate are reflected in results of operations in the period
in which such adjustments become known.
Loss Portfolio Reinsurance. Effective January 1, 1998, the Company entered into
a loss portfolio reinsurance agreement on a funds held basis for loss and LAE
reserves of $265 million related to certain run-off programs. The gain on the
cession was deferred and will be amortized into income as losses are paid.
Amortization of deferred gain of $2 million and $4 million was recorded as a
reduction of incurred losses for the three and six months ended June 30, 1998,
respectively. The contract covers 80% of any adverse loss development incurred
in excess of $280 million up to a maximum of $343 million. Any additional future
benefit from the contract triggered by adverse loss development will also be
deferred and amortized into income as the related losses are paid. Funds held
bear interest at 1.7% per quarter beginning April 1, 1998. Related funds held
interest of $4 million was recorded as a reduction of net investment income for
the three months ended June 30, 1998.
Treasury Stock. At June 30, 1998, the Board of Directors had authorized the
repurchase of up to 18.75 million shares of TIG Holdings common stock. As of
June 30, 1998, the Company has repurchased 16.3 million shares at an aggregate
cost of $461 million. The Company uses the cost method to record the repurchase
of treasury shares.
Independent Agents Business Ceding Commission. On December 31, 1997, TIG
completed the sale of its Independent Agents personal lines operations, which
was principally effected through reinsurance transactions. At close, TIG
received a ceding commission in excess of related deferred acquisition costs of
$20 million related to the 100% reinsurance of certain Independent Agents
business. This ceding commission will be recognized in income during 1998 as the
related ceded premium is earned. TIG recognized $8 million and $17 million of
pre-tax ceding commissions for the three and six months ended June 30, 1998,
respectively.
6
<PAGE>
TIG HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the Six Months Ended June 30, 1998
(unaudited)
- --------------------------------------------------------------------------------
NOTE B. CONTINGENCIES
- --------------------------------------------------------------------------------
TIG's insurance subsidiaries are routinely engaged in litigation in the normal
course of their business. As a liability insurer, the Company defends
third-party claims brought against its insureds. As an insurer, the Company
defends against coverage claims.
On January 11, 1994, a Los Angeles County Superior Court jury returned a verdict
of $28 million for punitive damages against TIG Insurance Company ("TIC") in
Talbot Partners v. Cates Construction, Inc. and TIC (the "Talbot Case"). The
award arose out of TIC's handling of a surety bond claim on a construction
project. On March 28, 1997, the California Court of Appeals reduced the trial
court's punitive damage award to $15 million. On July 23, 1997, the California
Supreme Court granted TIC's petition to review the Court of Appeals' decision.
Management believes that the ultimate liability arising from the Talbot Case
will not materially impact consolidated operating results.
TIG's Federal income tax returns are routinely audited by the Internal Revenue
Service (IRS) and provisions are made in the financial statements in
anticipation of the results of these audits. Following a routine federal income
tax audit by the IRS, in September 1997, the IRS issued a Statutory Notice of
Deficiency for the tax year 1993 and a Revenue Agents Report for 1994 asserting
a tax liability of approximately $170 million excluding interest. The IRS's
asserted tax adjustments principally relate to the acquisition made by TIG under
the Section 338(h)(10) election of April 27, 1993 in conjunction with TIG's
Initial Public Offering and primarily generate temporary differences by creating
income in 1993 with corresponding deductions in 1993 and future tax years. TIG
strongly disagrees with the IRS's position and, on December 11, 1997, TIG filed
a Tax Court Petition challenging it. In connection with the Statutory Notice of
Deficiency issued by the IRS for the 1993 tax year, TIG made a $40 million
advance tax payment in December 1997, that has been reflected as a current tax
asset. While the timing of cash tax payments may be impacted, management
believes that revisions to TIG's recorded tax liability, if any, arising from
the IRS's audit will not materially impact consolidated net income or the
financial condition of the Company.
On February 12, 1998, a purported class action complaint, naming TIG and two of
its executive officers as defendants, was filed in the United States District
Court for the Southern District of New York on behalf of persons who purchased
TIG common stock during the period from October 21, 1997 to January 30, 1998,
when TIG announced its fourth quarter 1997 results. The complaint alleges that
TIG violated the federal securities laws by misrepresenting the adequacy of its
underwriting and monitoring standards and loss reserves, and that five of its
officers and directors sold shares at prices that were artificially inflated as
a result of the alleged misrepresentations. Plaintiffs seek unspecified monetary
damages, including punitive damages. Management believes that the lawsuit is
without merit and it will be vigorously defended.
7
<PAGE>
TIG HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the Six Months Ended June 30, 1998
(unaudited)
- --------------------------------------------------------------------------------
NOTE C. COMPREHENSIVE INCOME
- --------------------------------------------------------------------------------
In January 1998, TIG adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" ("Statement 130"). Statement 130
establishes new rules for the reporting and display of comprehensive income and
its components. Statement 130 requires changes in unrealized gains or losses on
the Company's available-for-sale securities and foreign currency translation
adjustments, which prior to adoption were reported separately in shareholders'
equity, be included in other comprehensive income. Prior year financial
statements have been reclassified to conform to the requirements of Statement
130. The adoption of this statement had no impact on TIG's net income or
shareholders' equity.
During the first six months of 1998 and 1997, total comprehensive income was $63
million and $73 million, respectively. The components of comprehensive income,
net of related tax are as follows:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
- ------------------------------------------------------ ------------- ------------- ----- ------------- -------------
<S> <C> <C> <C> <C>
Net income $30 $39 $63 $75
Unrealized gain (loss) on marketable securities 8 51 - (2)
- ------------------------------------------------------ ------------- ------------- ----- ------------- -------------
Comprehensive income $38 $90 $63 $73
- ------------------------------------------------------ ------------- ------------- ----- ------------- -------------
</TABLE>
The components of accumulated other comprehensive income, net of related tax, at
June 30, 1998 and December 31, 1997 are as follows:
<TABLE>
<CAPTION>
June 30, December 31,
(In millions) 1998 1997
-------------------------------------------------- -------------------- --------------------
<S> <C> <C>
Unrealized gain on marketable securities $98 $98
Foreign currency translation adjustments (2) (2)
-------------------------------------------------- -------------------- --------------------
Accumulated other comprehensive income $96 $96
-------------------------------------------------- -------------------- --------------------
</TABLE>
- --------------------------------------------------------------------------------
NOTE D. NOTES PAYABLE
- --------------------------------------------------------------------------------
The Company borrowed $70 million on its $250 million revolving line of credit in
the first quarter of 1998, of which $55 million is currently outstanding at June
30, 1998. The proceeds of the borrowing were utilized for general corporate
purposes. This borrowing bears interest at a floating rate, currently 5.8275%.
8
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
The following discussion provides management's assessment of financial results
for the three and six months ended June 30, 1998 as compared to the three and
six months ended June 30, 1997 and material changes in financial position from
December 31, 1997 to June 30, 1998 for TIG Holdings, Inc. ("TIG Holdings") and
its subsidiaries (collectively "TIG" or the "Company") and presents management's
expectations for the near term. The analysis focuses on the performance of TIG's
three major operating divisions, Reinsurance, Commercial Specialty, and Custom
Markets, and its investment portfolio, which are discussed at Items 2.2, 2.3,
2.4, and 2.6, respectively. Lines of business that have been de-emphasized
("Other Lines") are discussed at Item 2.5. This discussion updates the
"Management's Discussion and Analysis" in the 1997 Annual Report to Shareholders
and should be read in conjunction therewith. Key industry terms that appear in
the Management's Discussion and Analysis and elsewhere in this document are
defined at Item 2.11 - Glossary. Certain reclassifications of prior years'
amounts have been made to conform with the 1998 presentation.
Statements contained in the Management's Discussion and Analysis, and elsewhere
in this document that are not based on historical information are
forward-looking statements and are based on management's projections, estimates
and assumptions. Management would like to caution readers regarding its
forward-looking statements (see Item 2.10 - Forward-Looking Statements).
9
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.1 CONSOLIDATED RESULTS
- --------------------------------------------------------------------------------
Overview. Results of operations for the three and six months ended June 30, 1998
and 1997 are presented below:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
<S> <C> <C> <C> <C>
Gross premium written $526 $465 $1,118 $933
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
Net premium written $354 $380 $774 $769
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
Net premium earned $374 $358 $734 $711
Less: Net loss and LAE incurred 246 250 492 502
Commission expense 74 70 144 137
Premium related expense 10 10 19 21
Other underwriting expense 36 31 70 61
Policyholder dividends incurred 5 1 8 3
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
Underwriting gain (loss) 3 (4) 1 (13)
Net investment income 60 73 126 148
Net realized investment gain 1 4 3 5
Corporate expenses 16 11 29 19
Interest expense 5 5 11 10
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
Income before tax expense 43 57 90 111
Income tax expense (13) (18) (27) (36)
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
Net income $30 $39 $63 $75
- ------------------------------------------------- ------------- ------------- ------ ------------- -------------
</TABLE>
Net income declined by $9 million or 23% in the second quarter and $12 million
or 16% for the first six months of 1998 as compared to the corresponding 1997
period. The principal drivers of the decline were increased corporate,
commission and other underwriting expenses. Corporate expenses increased due to
planned corporate systems and other projects, including Year 2000 initiatives
(see Item 2.9). Commission rates increased in all ongoing divisions due to
pricing pressures. Other underwriting expenses increased disproportionately to
net premium written growth as "start-up" business initiatives are taking longer
to achieve targeted volumes due to continuing soft market conditions.
TIG reported an underwriting gain for the second quarter and first six months of
1998, despite increased commission and other underwriting expenses, due to
ceding commission income arising from the December 1997 sale of TIG's
Independent Agents business of $8 million and $17 million, respectively (see
Item 2.5). Remaining ceding commission income of approximately $3 million will
be recognized in the third quarter of 1998. In addition, increased utilization
of aggregate stop loss and other finite reinsurance coverages in all operating
divisions provided an additional underwriting benefit of approximately $17
million and $29 million for the second quarter and first six months of 1998,
respectively, as compared to the corresponding 1997 periods. The increased
utilization of finite reinsurance coverages is partially in response to
favorable market conditions and partially to mitigate the inherent financial
volatility of a changing book of business. As discussed below, both the sale of
the Independent Agents business and increased utilization of finite reinsurance
has had a negative impact on investment income.
10
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Net investment income decreased $13 million or 18% and $22 million or 15% for
the second quarter and first six months of 1998, respectively, as compared to
the corresponding 1997 periods. Approximately, $5 million of the year-to-date
1998 decrease is attributable to net assets transferred in December 1997 in
connection with the sale of Independent Agents business while approximately $10
million results from increased funds held interest expense resulting from
additional utilization of finite reinsurance coverages. The remaining decrease
in net investment income is principally attributable to declining market
investment yields in 1998.
The following could impact earnings during future quarters: Competitive
conditions in commercial insurance and reinsurance markets, increased commission
pressure, new initiative start-up expenses, continued losses from the
Alternative Distribution business unit (see Item 2.4) and the decrease in ceding
commissions from the sale of the Independent Agency Personal Lines operations,
offset by the net impact of any opportunistic use of finite or other ceded
reinsurance which has favorably benefited loss ratios in 1998. As a result,
operating earnings for the second half of 1998 could decline from those reported
for the first half of the year.
Premium. Overall market conditions remain extremely competitive in 1998, which
has provided additional leverage to brokers and ceding companies in establishing
terms, including commission rates. Oversupply of capital in the insurance
industry has resulted in significant downward pricing pressure, making it
increasingly difficult for TIG to write business which meets its profitability
standards. TIG's marketing focus for all divisions is to develop program
business which caters to a specific market niche. The following table summarizes
net premium written ("NPW") by division:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
------------------------------------- -------------------------------------
1998 1997 1998 1997
-------- --------- --------- -------- -------- --------- --------- --------
(In millions) NPW % NPW % NPW % NPW %
--------------------------- -------- --------- --------- -------- -------- --------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Reinsurance $118 33% $139 37% $238 31% $284 37%
Commercial Specialty 175 49% 136 36% 419 54% 276 36%
Custom Markets 66 19% 40 10% 127 16% 71 9%
Other Lines (5) (1%) 65 17% (10) (1%) 138 18%
--------------------------- -------- --------- --------- -------- -------- --------- --------- --------
Net premium written $354 100% $380 100% $774 100% $769 100%
--------------------------- -------- --------- --------- -------- -------- --------- --------- --------
</TABLE>
Consolidated net premium written decreased by $26 million or 7% and increased by
$5 million or 1% for the second quarter and first six months of 1998,
respectively, as compared to the corresponding 1997 periods, while growth in
ongoing operations net premium written was $44 million or 14% and $153 million
or 24%, respectively. Growth in ongoing operations net premium written decreased
in the second quarter of 1998 from the first quarter of 1998 due to the
seasonality of Lloyd's syndicate premium, the buying down of the Managed
Compensation business unit's net retention from $1 million to $100 thousand (see
Item 2.3) and increased utilization of finite reinsurance coverages. As
expected, ongoing operations premium growth was offset in 1998 by a decline in
Other Lines net premium written resulting from the sale and 100% reinsurance of
TIG's Independent Agents business in December 1997 (see Item 2.5).
11
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Statutory Combined Ratio. The following table presents the components of the
Company's statutory combined ratio:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
---------------------------------- ----------------------------------
Statutory ratios 1998 1997 1998 1997
-------------------------------- ----------------- ---------------- ----------------- ----------------
<S> <C> <C> <C> <C>
Loss and LAE 66.4 69.7 67.6 70.6
-------------------------------- ----------------- ---------------- ----------------- ----------------
Commission expense 22.8 19.4 21.3 19.2
Premium related expense 3.5 2.7 2.9 2.8
Other underwriting expense 10.3 8.8 9.2 8.4
-------------------------------- ----------------- ---------------- ----------------- ----------------
Total underwriting expense 36.6 30.9 33.4 30.4
Policyholder dividends 1.3 0.9 1.2 1.1
-------------------------------- ----------------- ---------------- ----------------- ----------------
Combined 104.3 101.5 102.2 102.1
-------------------------------- ----------------- ---------------- ----------------- ----------------
</TABLE>
The combined ratio for second quarter 1998 increased 2.8 percentage points over
second quarter 1997 as increased underwriting and commission expense ratios more
than offset a decrease in the loss and LAE ratio. The increase in the other
underwriting expense ratio is primarily attributable to start-up costs incurred
for new business initiatives and lower net premium written, while the increased
commission expense ratio is principally attributable to pricing pressures in all
ongoing divisions. The decrease in the second quarter 1998 loss and LAE ratio is
due to increased utilization of finite reinsurance coverages and a decrease in
retention limits for Managed Compensation business from $1 million to $100
thousand (see Item 2.3).
The combined ratio for the first six months of 1998 increased only slightly over
1997 as ceding commission income from the sale of Independent Agents business
was also recognized in statutory income for first quarter 1998. As a result, the
year-to-date 1998 commission ratio and combined ratio was reduced by
approximately one percentage point.
- --------------------------------------------------------------------------------
2.2 REINSURANCE
- --------------------------------------------------------------------------------
TIG's reinsurance operations are conducted through TIG Reinsurance Company ("TIG
Re") which is based in Stamford, Connecticut. TIG Re operates through a number
of business units which employ similar underwriting principles but serve
differing market needs: Specialty Casualty, Traditional Treaty, London Branch, a
Lloyd's Syndicate, Reverse Flow, Specialty Property, Finite Reinsurance and
Facultative. Specialty Casualty emphasizes general liability and professional
liability lines. TIG Re is often a lead underwriter in these transactions which
are usually structured on an excess-of-loss basis. Traditional Treaty reinsures
"standard" property/casualty business. The London Branch focuses on worldwide
property exposures, with casualty underwriting having been introduced in late
1996, while a fully integrated Lloyd's vehicle (underwriting syndicate) was
introduced in December 1996. Reverse Flow is an alternative distribution
mechanism whereby general agents or intermediaries submit program business to
TIG Re. TIG Re then works with the reinsurance intermediary to provide a primary
insurer to issue the primary policy and then cede a significant portion of the
risk to TIG Re. Beginning in the second quarter of 1998, management and
reporting of reverse flow business is being transitioned to the Company's
Irving, Texas location, principally under the control of its Commercial
Specialty operations. Specialty Property covers both domestic and international
exposures. Finite Reinsurance provides clients with integrated underwriting
approaches to control the volatility of financial results over time. TIG Re
maintains eight branch offices dedicated to the marketing and underwriting of
direct facultative reinsurance on an automatic and individual risk basis.
12
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Premium. The following table summarizes TIG Re's premium production:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
-------------------------------------- --------------------------------------
1998 1997 1998 1997
------------------- ------------------ ------------------- ------------------
(In millions) NPW % NPW % NPW % NPW %
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Specialty Casualty $41 35% $57 41% $99 41% $112 39%
Reverse Flow 24 20% 12 9% 39 16% 31 11%
Traditional Treaty 23 20% 32 23% 37 16% 56 20%
London Branch & Lloyd's 23 20% 24 17% 48 20% 44 16%
Specialty Property 3 2% 17 12% 10 4% 29 10%
Finite 5 4% 7 5% 9 4% 24 8%
Facultative 11 9% 6 4% 18 8% 11 4%
Other (12) (10%) (16) (11%) (22) (9%) (23) (8%)
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
Net premium written $118 100% $139 100% $238 100% $284 100%
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
Gross premium written $139 $156 $280 $312
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
</TABLE>
Net premium written declined by $21 million or 15% in the second quarter of 1998
and $46 million or 16% in the first six months of 1998 compared to the
corresponding 1997 periods. The decrease in net premium written is due to the
non-renewal or reduced participation in several large and unprofitable accounts
combined with increased use of reinsurance to manage the Company's net
underwriting exposure.
During the first seven months of 1998 TIG Re appointed a new Chief Executive
Officer, a new Chief Actuary, a new Chief Financial Officer and replaced several
senior underwriters. These appointments, and the departure of their
predecessors, could impact, positively or negatively, existing producer
relationships and the availability of new business opportunities.
Underwriting Results. The following table summarizes TIG Re's underwriting
results:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
---------------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net premium earned $130 $119 $264 $248
Less:
Net loss and LAE incurred 87 84 176 179
Commission expense 36 29 73 58
Other underwriting expense 12 10 25 20
---------------------------------------------- ------------- ------------- ------------- -------------
Underwriting loss ($5) ($4) ($10) $(9)
---------------------------------------------- ------------- ------------- ------------- -------------
Statutory ratios
---------------------------------------------- ------------- ------------- ------------- -------------
Loss and LAE 67.1 70.9 66.8 72.4
Commission 28.6 23.0 29.0 22.9
Premium related 0.5 0.4 0.5 0.3
Other underwriting 9.5 7.2 10.1 6.9
---------------------------------------------- ------------- ------------- ------------- -------------
Combined ratio 105.7 101.5 106.4 102.5
---------------------------------------------- ------------- ------------- ------------- -------------
</TABLE>
13
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
TIG Re's underwriting loss for the second quarter and first six months of 1998
approximated the underwriting loss of the comparable 1997 periods. Results for
both 1998 periods reflect overall lower program profitability expectations,
offset by increased aggregate stop loss reinsurance utilization which improved
the statutory combined ratio by approximately 1.9 percentage points for the
second quarter of 1998 and 2.3 percentage points for the first six months of
1998. In addition, a favorable arbitration award reduced first quarter 1998
incurred loss and LAE, while second quarter 1998 incurred loss and LAE received
a similar unplanned benefit from a novation transaction.
The statutory commission ratio increased by 5.6 percentage points in the second
quarter 1998 and 6.1 percentage points for the first six months of 1998 when
compared to the corresponding 1997 periods. This increase is principally due to
a changing mix of business with higher commissions and competitive market
conditions. The statutory other underwriting expense ratio increased as a result
of spending on new initiatives and lower net premium volume in 1998 compared to
the 1997 periods.
- --------------------------------------------------------------------------------
2.3 COMMERCIAL SPECIALTY
- --------------------------------------------------------------------------------
Commercial Specialty, based in Irving, Texas, provides specialized insurance
products through five main business units: Managed Compensation, Sports and
Leisure, Lloyd's Syndicates, Primary Casualty and Excess Casualty. Managed
Compensation provides workers' compensation insurance coverages and occupational
care management. Workers' Compensation insurance covers medical care,
rehabilitation, and lost wages of employees who suffer work-related injuries,
and provides death benefits for dependents of employees killed in work-related
accidents. The Sports and Leisure unit offers coverages for professional and
amateur sports events. Coverages include spectator liability and participant
legal liability, including property and liability packages for a variety of
entertainment and leisure activities. Commercial Specialty participates in three
Lloyd's syndicates which principally write marine, U.K. property and aviation
business. The Primary Casualty unit focuses on commercial auto, professional
liability, construction, and marine programs. The Excess Casualty unit offers
lead umbrella and excess umbrella policies.
Premium. The following table summarizes Commercial Specialty's premium
production:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
-------------------------------------- --------------------------------------
1998 1997 1998 1997
------------------- ------------------ ------------------- ------------------
(In millions) NPW % NPW % NPW % NPW %
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Managed Compensation $72 41% $54 40% $188 45% $109 39%
Lloyd's Syndicates 14 8% 4 3% 68 16% 24 9%
Sports & Leisure 55 31% 48 35% 99 24% 88 32%
Primary Casualty 24 14% 23 17% 45 11% 41 15%
Excess Casualty and other 10 6% 7 5% 19 4% 14 5%
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
Net premium written $175 100% $136 100% $419 100% $276 100%
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
Gross premium written $241 $171 $556 $348
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
</TABLE>
14
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Net premium written increased 29% for the second quarter of 1998 and 52% for the
first six months of 1998 compared to the corresponding 1997 periods. The
increase in each respective period is principally attributable to increased
production in the Managed Compensation business unit and from Lloyd's
Syndicates. The increase in Managed Compensation was primarily due to TIG
entering into a strategic relationship in the third quarter of 1997 with a
general agent that writes program business and also provides loss management
services. This relationship contributed $20 million of premium in second quarter
1998 and $67 million for the first six months of 1998. Also contributing to the
increase in Managed Compensation premium for the first six months of 1998 is a
better competitive environment in Illinois and growth in Arizona. The increased
production in Lloyd's Syndicates is due to increased participation in the
capacity of the syndicates from approximately 18% in 1997 to 41% in 1998. Growth
in net premium written decreased in the second quarter of 1998 from the first
quarter of 1998 due to the seasonality of both Lloyd's syndicate premium (the
majority of premium is booked in the first quarter of each year) and workers'
compensation renewals (premium writings are greater in the first quarter), and
the second quarter 1998 decision to buy down the Managed Compensation business
unit's net retention from $1 million to $100 thousand. The change in net
retention was made to take advantage of favorable reinsurance pricing available
due to soft market conditions.
Underwriting Results. Underwriting results for Commercial Specialty are
presented below:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
---------------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net premium earned $184 $120 $355 $228
Less:
Net loss and LAE incurred 115 83 235 159
Commission expense 34 22 65 40
Premium related expense 7 5 13 10
Other underwriting expense 18 13 33 23
Policyholder dividends incurred 5 1 8 3
---------------------------------------------- ------------- ------------- ------------- -------------
Underwriting gain (loss) $5 ($4) $1 ($7)
---------------------------------------------- ------------- ------------- ------------- -------------
Statutory ratios
---------------------------------------------- ------------- ------------- ------------- -------------
Loss and LAE 62.5 69.2 66.3 69.8
Commission 19.7 18.9 18.9 18.0
Premium related 5.0 3.7 3.9 3.7
Other underwriting 10.5 9.7 8.4 8.8
Policyholder dividends 2.6 2.6 2.3 3.0
---------------------------------------------- ------------- ------------- ------------- -------------
Combined ratio 100.3 104.1 99.8 103.3
---------------------------------------------- ------------- ------------- ------------- -------------
</TABLE>
Commercial Specialty's underwriting results improved $9 million in the second
quarter and $8 million for the first six months of 1998 as compared to the
corresponding 1997 periods. The improvement is principally due to benefits
realized as a result of changes in the Managed Compensation reinsurance
strategy. As previously described, the Managed Compensation business unit's net
retention was reduced to $100 thousand from $1 million in the second quarter of
1998. Additionally, in 1998 the Managed Compensation business unit purchased a
finite reinsurance treaty that allows the unit to stay competitive with other
insurers whose states of domicile allow discounting of workers' compensation
loss reserves. These changes improved Commercial Specialty underwriting results
by $14 million and $15 million for the second quarter and first six months of
1998, respectively. Unfavorable commission comparisons due to favorable
contingent commission adjustments in the first and second quarters of 1997
partially offset the benefits of the new reinsurance facilities.
15
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.4 CUSTOM MARKETS
- --------------------------------------------------------------------------------
Custom Markets division provides personal lines and small business insurance
products through three main business units: Non-standard Auto, Alternative
Distribution and Small Business. Non-standard Auto provides auto physical damage
and liability coverages to higher risk insureds principally through general
agents. Alternative Distribution markets personal lines insurance through
non-traditional channels, such as direct marketing, and group and affiliation
marketing. Small Business provides commercial property, liability, and auto
coverages to small business owners through independent agents, primarily in
Hawaii, Arizona and California.
Premium. The following table summarizes Custom Markets premium production:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
------------------- ------------------ --------------------------------------
1998 1997 1998 1997
------------------- ------------------ ------------------- ------------------
(In millions) NPW % NPW % NPW % NPW %
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Non-standard Auto $29 44% $19 47% $55 43% $31 44%
Alternative Distributions 21 32% 6 15% 39 31% 7 10%
Small Business 16 24% 15 38% 33 26% 33 46%
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
Net premium written $66 100% $40 100% $127 100% $71 100%
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
Gross premium written $77 $45 $142 $77
---------------------------- --------- --------- -------- --------- --------- --------- -------- ---------
</TABLE>
Custom Markets net premium written increased $26 million for the second quarter
of 1998 and $56 million for the first six months of 1998 as compared to the
corresponding 1997 periods. The increased production noted in Alternative
Distribution is due to this unit having been formed in late 1996 with limited
production in the 1997 periods. The increases noted in Non-standard Auto are
principally due to new general agent relationships in California and Texas.
16
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Underwriting Results. Underwriting results for Custom Markets are presented
below:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
---------------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net premium earned $65 $38 $124 $70
Less:
Net loss and LAE incurred 51 24 97 45
Commission expense 12 7 24 13
Premium related expense 1 2 2 4
Other underwriting expense 7 5 12 9
---------------------------------------------- ------------- ------------- ------------- -------------
Underwriting loss ($6) $- ($11) ($1)
---------------------------------------------- ------------- ------------- ------------- -------------
Statutory ratios
---------------------------------------------- ------------- ------------- ------------- -------------
Loss and LAE 78.0 62.7 77.8 63.6
Commission 18.7 18.0 19.2 18.3
Premium related 2.2 5.4 2.0 5.9
Other underwriting 10.3 13.0 9.3 13.3
---------------------------------------------- ------------- ------------- ------------- -------------
Combined ratio 109.2 99.1 108.3 101.1
---------------------------------------------- ------------- ------------- ------------- -------------
</TABLE>
Custom Markets underwriting results deteriorated $6 million in the second
quarter of 1998 and $10 million for the first six months of 1998 compared to the
corresponding 1997 periods. This deterioration is principally the result of
program start-up costs in the Alternative Distribution unit, which was partially
mitigated by an aggregate stop loss reinsurance facility purchased in second
quarter 1998. The underwriting loss from Alternative Distribution, net of
reinsurance, was $4 million and $10 million for the second quarter and first six
months of 1998, respectively, compared to an underwriting loss of $2 million and
$3 million in the corresponding 1997 periods. TIG has initiated corrective
action by changing the underwriting guidelines and filing for rate increases
with respect to the major program in the Alternative Distribution unit. TIG
anticipates that all of these filings will be made by the end of the first
quarter of 1999, with the major state filings scheduled to be made by the end of
1998. These actions have led to a dispute with the producer of this program, the
outcome of which cannot be currently determined. The producer has notified TIG
that it has stopped writing new business. In addition, underwriting results for
the Non-standard Auto unit deteriorated $4 million and $5 million in the second
quarter and first six months of 1998, respectively, compared to the
corresponding 1997 periods. This deterioration is primarily due to late reported
premium cancellations and an increase in reported property losses in one large
state, for which a rate increase was effective July 15, 1998.
17
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.5 OTHER LINES
- --------------------------------------------------------------------------------
Other Lines principally includes the results of Independent Agents personal
lines operations which were sold and 100% reinsured effective December 31, 1997,
commercial products which have been placed in run-off, and aggregate stop loss
reinsurance activity not related to a specific division.
Underwriting Results. Underwriting results for Other Lines are presented below:
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
---------------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Gross premium written $69 $93 $140 $195
---------------------------------------------- ------------- ------------- ------------- -------------
Net premium written ($5) $65 ($10) $138
---------------------------------------------- ------------- ------------- ------------- -------------
Net premium earned ($5) $81 (9) $165
Less:
Net loss and LAE incurred (7) 59 (16) 119
Commission expense (8) 13 (18) 26
Premium related expense 1 2 3 6
Other underwriting expense - 3 1 10
---------------------------------------------- ------------- ------------- ------------- -------------
Underwriting gain $9 $4 $21 $4
---------------------------------------------- ------------- ------------- ------------- -------------
</TABLE>
The underwriting gain of $9 million in second quarter 1998 and $21 million in
the first six months of 1998 is principally due to the recognition of $8 million
and $17 million, respectively, of ceding commissions related to the sale of the
Independent Agents unit in December 1997 (see Note A to the Condensed
Consolidated Financial Statements). Other Lines second quarter 1998 and first
six months of 1998 results also include $7 million and $15 million,
respectively, of benefit recorded under aggregate stop loss and other
reinsurance coverage compared to $7 million and $10 million for the
corresponding 1997 periods. Retroactive premium and other miscellaneous
adjustments partially offset the benefit of the aforementioned transactions for
the second quarter and first six months of 1998.
18
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.6 INVESTMENTS
- --------------------------------------------------------------------------------
Investment Mix. The goal of ongoing investment strategies is to provide TIG with
the most advantageous balance of liquidity with the highest possible return over
inflation, within corporate credit guidelines and regulatory restrictions and
subject to management's risk tolerance. The following chart summarizes TIG's
investment portfolio by investment type:
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
----------------------------- -----------------------------
Market % of Market Market % of Market
(In millions) Value Portfolio Value Portfolio
------------------------------------- -------------- -------------- --------------- ---------------
<S> <C> <C> <C> <C>
Mortgage-backed securities $1,237 29.5% $941 22.4%
Corporate and other bonds 1,216 29.0% 1,282 30.6%
U.S. government bonds 906 21.6% 1,014 24.2%
Municipal bonds 647 15.4% 637 15.2%
------------------------------------- -------------- -------------- --------------- ---------------
Total fixed maturity investments 4,006 95.5% 3,874 92.4%
Short-term and other investments 190 4.5% 318 7.6%
------------------------------------- -------------- -------------- --------------- ---------------
Total invested assets $4,196 100.0% $4,192 100.0%
------------------------------------- -------------- -------------- --------------- ---------------
</TABLE>
The portfolio gross book yield at June 30, 1998 was 7.1%, as compared to 7.4% at
December 31, 1997. The decline in gross book yield is reflective of general
market conditions. The weighted average duration of the portfolio increased to
6.1 years at June 30, 1998 as compared to 5.4 years at December 31, 1997 due to
a decline in short-term investments. TIG's objective is to maintain the weighted
average duration of its investment portfolio between 4 and 7 years.
Approximately 30% of TIG's portfolio consists of mortgage-backed securities
("MBS"). AAA rated United States federal government agency mortgages now
represent approximately 85% of TIG's exposure to MBS. A risk inherent in MBS is
prepayment risk related to interest rate volatility. The underlying mortgages
may be repaid earlier or later than originally anticipated, depending on the
repayment and refinancing activity of the underlying homeowners. Should this
occur, TIG would receive paydowns on the principal amount which may have been
purchased at a premium or discount and TIG's investment income would be affected
by any adjustments to amortization resulting from the prepayments. TIG's
consolidated financial results have not been materially impacted by prepayments
of MBS. Additionally, interest rate volatility can affect the market value of
MBS. All MBS held in the portfolio can be traded in the public market.
Derivatives/Hedges. In the normal course of business, TIG may choose to hedge
some of its interest rate risk with futures contracts and/or interest rate
swaps. Alternatively, derivative financial instruments may also be utilized to
enhance prospective returns. TIG's interest rate swap arrangements generally
provide that one party pays interest at a floating rate in relation to movements
in an underlying index, and the other party pays interest at a fixed rate. While
TIG is exposed to credit risk in the event of nonperformance by the other party,
nonperformance is not anticipated due to the credit rating of the
counterparties.
19
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
No futures contracts positions were open at June 30, 1998, or December 31, 1997.
There were no interest rate swaps at June 30, 1998 compared to $14 million
notional face amount of interest rate swaps at December 31, 1997. Total fair
value of derivative positions were approximately $78 million, representing 1.9%
of the total investment asset holdings at June 30, 1998 no change from December
31, 1997. All TIG derivative financial instruments were with financial
institutions rated "A" or better by one or more of the major credit rating
agencies.
Investments in TBA's. TIG routinely enters into commitments to purchase
securities on a "To Be Announced" ("TBA") basis for which the interest rate risk
remains with TIG until the date of delivery and payment. Delivery and payment of
securities purchased on a TBA basis can take place a month or more after the
date of the transaction. These securities are subject to market fluctuations
during this period and it is the Company's policy to recognize any gains and
losses only when they are realized. TIG maintains cash and short-term
investments with a fair value exceeding the amount of its TBA purchase
commitments. At June 30, 1998, there were no outstanding TBA commitments,
compared to TBA commitments of $24 million with a fair value of $26 million at
December 31, 1997.
Unrealized Gains. Net pre-tax unrealized gains were relatively unchanged at June
30, 1998, compared to December 31,1997. The following is a summary of net
unrealized gains by type of security.
<TABLE>
<CAPTION>
(In millions) June 30, 1998 December 31, 1997 Change
-------------------------------------------- --------------------- --------------------- --------------
<S> <C> <C> <C>
Municipal bonds $40 $41 ($1)
Mortgage-backed securities 5 8 (3)
US government bonds 86 73 13
Corporate and other bonds 16 27 (11)
Other investments 3 2 1
-------------------------------------------- --------------------- --------------------- --------------
Net unrealized gains $150 $151 ($1)
-------------------------------------------- --------------------- --------------------- --------------
</TABLE>
Investment Income. The following table displays the components of TIG's
investment income and mean after-tax investment yields. The yields include
interest earned and exclude realized investment gains and losses. These yields
are computed using the average of the end of the month asset balances during the
period.
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
--------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
----------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Fixed maturity investments:
Taxable $61 $67 $122 $136
Tax-exempt 9 8 18 16
Short-term and other investments 2 2 4 3
----------------------------------------- ------------- ------------- ------------- -------------
Total gross investment income 72 77 144 155
Investment expenses (1) - (1) -
Interest expense on funds held (11) (4) (17) (7)
----------------------------------------- ------------- ------------- ------------- -------------
Total net investment income $60 $73 $126 $148
----------------------------------------- ------------- ------------- ------------- -------------
After-tax gross investment yield 4.9% 5.0% 4.9% 5.0%
----------------------------------------- ------------- ------------- ------------- -------------
</TABLE>
20
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
The $5 million and $11 million decline in gross investment income for the three
and six month periods ended June 30, 1998 compared to the corresponding 1997
periods is due to a lower average invested asset base and a lower average yield
for the 1998 periods compared to the 1997 periods. The decline in average
investable assets is principally due to the transfer of $149 million of
investment assets related to the sale of the Independent Agents personal lines
operations on December 31, 1997. The decline in investment yield is due to a
general decline in market yields. The increase in interest expense on funds held
is the result of increased utilization of aggregate stop loss reinsurance in
1997 and 1998. As a result of this increased utilization, funds held interest
expense is expected to continue to increase in future periods.
Investment Quality. The table below shows the rating distribution of TIG's
fixed maturity portfolio:
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
--------------------------- ---------------------------
Market % of Market % of
Standard & Poor's/Moody's Value Portfolio Value Portfolio
------------------------------------------ ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
(In millions)
AAA/Aaa $2,710 67.7% $2,541 65.6%
AA/Aa 281 7.0% 261 6.7%
A/A 255 6.4% 209 5.4%
BBB/Baa 225 5.6% 220 5.7%
Below BBB/Baa 535 13.3% 643 16.6%
------------------------------------------ ------------- ------------- ------------- -------------
Total fixed maturity investments $4,006 100.0% $3,874 100.0%
------------------------------------------ ------------- ------------- ------------- -------------
</TABLE>
TIG minimizes the credit risk of its fixed maturity portfolio by investing
primarily in investment grade securities; however, management has authorized the
purchase of high yield, less than investment grade securities up to statutory
limitations. The Company's high yield portfolio is comprised of bonds whose
issuers are subjected to rigorous credit analysis, including tests of
prospective profitability, liquidity, leverage, and interest coverage. This
analysis is updated regularly as financial results are released, and bonds are
constantly evaluated for their value.
The information on credit quality in the preceding table is based upon the
higher of the rating assigned to each issue of fixed income securities by either
Standard & Poor's or Moody's. Where neither Standard & Poor's or Moody's has
assigned a rating to a particular fixed maturity issue, classification is based
on 1) ratings available from other recognized rating services, 2) ratings
assigned by the National Association of Insurance Commissioners Securities
Valuation Office (the "SVO"), or 3) an internal assessment of the
characteristics of the individual security, if no other rating is available.
The SVO assigns bond ratings for most publicly held bonds. The SVO ratings are
used by insurers when preparing their annual statutory financial statements.
State departments of insurance use the bond rating data when attempting to
determine whether an insurer's holdings are sound. Investments must fit within
certain regulatory guidelines of an insurer's domiciliary state in order for an
insurer to be licensed to do business in that state. The SVO ratings range from
"1" to "6", with "1" and "2" being the higher quality, "3" being medium grade,
and "4" through "6" being lower grade obligations. As of June 30, 1998 and
December 31, 1997, approximately 88% and 84%, respectively, of TIG's portfolio,
measured on a statutory carrying value basis, was invested in securities rated
as "1" or "2".
21
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.7 RESERVES
- --------------------------------------------------------------------------------
TIG maintains reserves to cover its estimated liability for losses and loss
adjustment expenses ("LAE") with respect to reported and unreported claims.
TIG's reserves for losses and LAE totaled $3,977 million and $3,935 million at
June 30, 1998 and December 31, 1997, respectively. The process of estimating
loss and LAE reserves involves the active participation of an experienced
actuarial staff with input from the underwriting, claims, reinsurance,
financial, and legal departments. Management, using the advice of loss reserve
specialists, makes a judgment as to the appropriate amount to record in the
financial statements. Because reserves are estimates of ultimate losses and LAE,
management monitors reserve adequacy over time, evaluating new information as it
becomes known and adjusting reserves as necessary. Such adjustments are
reflected in current operations.
The inherent uncertainty in estimating reserves is increased when significant
changes occur. Examples of such changes include: (1) changes in production
sources for existing lines of business; (2) writings of significant blocks of
new business; (3) changes in economic conditions; and (4) changes in state or
federal laws and regulations, particularly insurance reform measures. TIG has
experienced significant changes in each of these areas during the past several
years. The inherent uncertainties in estimating reserves are greater with
respect to reinsurance than for primary insurance due to the diversity of the
development patterns among different types of reinsurance contracts, the
necessary reliance on ceding companies for information regarding reported claims
and differing reserving practices among ceding companies.
TIG's reserves include an estimate of TIG's ultimate liability for
asbestos-related matters, environmental pollution, toxic tort, and other
non-sudden and accidental claims for which ultimate values cannot be estimated
using traditional reserving techniques. TIG's "environmental" loss and LAE
reserves totaled $30 million and $34 million at June 30, 1998 and December 31,
1997, respectively. TIG's environmental claims activity is predominately from
hazardous waste and pollution-related claims arising from commercial insurance
policies. In connection with TIG's IPO in April 1993, an affiliate of TIG's
former parent, Transamerica Corporation, agreed to pay 75% of up to $119 million
of reserve development and newly reported claims, up to a maximum reimbursement
of $89 million, on policies written prior to January 1, 1993, with respect to
certain environmental claims involving paid losses and certain LAE in excess of
TIG's environmental loss and LAE reserves at December 31, 1992. At June 30,
1998, the Transamerica affiliate had incurred no liability under this agreement.
Management considers many factors when setting reserves, including: (i) current
legal interpretations of coverage and liability; (ii) economic conditions; and
(iii) internal methodologies which analyze TIG's experience with similar cases,
information from ceding companies and historical trends, such as reserving
patterns, loss payments, pending levels of unpaid claims and product mix. Based
on these considerations, management believes that adequate provision has been
made for TIG's loss and LAE reserves. Actual losses and LAE paid may deviate,
perhaps substantially, from such reserves.
22
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.8 LIQUIDITY AND CAPITAL RESOURCES
- --------------------------------------------------------------------------------
Liquidity is a measure of an entity's ability to secure enough cash to meet its
contractual obligations and operating needs. TIG requires cash primarily to pay
policyholders' claims, operating expenses, policyholder dividends, interest
expenses and debt obligations. Generally, premium is collected months or years
before claims are paid under the policies purchased by the premium. These funds
are used first to pay current claims and expenses. The balance is invested in
securities to augment the investment income generated by the existing portfolio.
Historically, TIG has had, and expects to continue to have, more than sufficient
funds to pay claims, operating expenses, policyholder dividends, interest
expenses and debt obligations.
Cash Flow From Operating Activities. The following table summarizes the
significant components of cash flow from operations: Three Months Six Months
<TABLE>
<CAPTION>
Ended June 30, Ended June 30,
---------------------------- ---------------------------
(In millions) 1998 1997 1998 1997
------------------------------------- ------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Reinsurance operations ($5) $40 $83 $69
Primary operations and corporate 37 25 70 36
------------------------------------- ------------- -------------- ------------- -------------
On-going operations 32 65 153 105
Run-off (Other Lines operations) (62) (82) (96) (118)
------------------------------------- ------------- -------------- ------------- -------------
Total ($30) ($17) $57 ($13)
------------------------------------- ------------- -------------- ------------- -------------
</TABLE>
The decline in Ongoing operations cash flow for second quarter 1998 compared to
1997 is driven by lower premium collections in the Reinsurance operations due to
decreased net premium written. Also, second quarter Reinsurance cash flow was
reduced by the return of $13 million of a $75 million deposit received in first
quarter 1998 upon finalization of various agreements to assume certain run-off
liabilities of another reinsurer. Primary operations and corporate cash flow
improved primarily due to increased premium production and collections, which
were partially offset by increased paid losses, premium related expenses,
operating expenses and corporate selling and administrative expenses. The $20
million improvement in Run-off cash flow is primarily attributable to the
expected decline in losses paid.
The improvement in both Ongoing operations and Run-off operations cash flow for
the first six months of 1998 compared to the corresponding 1997 periods is due
to several factors. The Reinsurance operations benefited from the net receipt of
$62 million in connection with the assumption of certain run-off liabilities of
another reinsurer, while the Primary operations are generating increased cash
flow due to increased premium production. Also, contributing to the improvement
is the expected decline in Run-off operations losses paid. Partially offsetting
these improvements are a reduction in premium receipts in the Reinsurance
operations as a result of declining net premium written, increased operating
expenses, selling and administrative and debt interest payments, and lower
investment income received.
Restrictions on Dividends from Insurance Subsidiaries. The maximum amount of
shareholders dividends which the insurance subsidiaries can pay to TIG Holdings
is limited to the greater of (i) 10% of statutory surplus as of the end of the
preceding year or (ii) the statutory net income for the preceding year except
that such amount may not exceed earned surplus. Accordingly, the maximum
dividend payout to TIG Holdings from its subsidiaries that can be made without
regulatory approval during 1998 is $180 million. TIG Holdings received $90
million in dividends from its insurance subsidiaries in the first six months of
1998, as compared to $60 million for the first six months of 1997. Aggregate
investments and cash at TIG Holdings were $63 million at June 30, 1998, compared
to $39 million at December 31, 1997.
23
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Notes Payable. In December 1995, TIG Holdings established an unsecured revolving
line of credit with maximum borrowings of $250 million. During first quarter
1998, TIG borrowed $70 million against this facility, of which $55 million
remains outstanding at June 30, 1998. In 1995, TIG Insurance Company entered
into a five-year $50 million credit facility of which approximately $24 million
was outstanding as of June 30, 1998 and December 31, 1997. The facility is a
direct financing arrangement with a third-party related to the sale leaseback of
certain fixed assets. In addition, TIG Holdings had $99 million of 8.125% notes
payable maturing in 2005 outstanding at June 30, 1998 and December 31, 1997.
In January 1997, TIG Capital Trust I, a statutory business trust created under
Delaware law as a trust subsidiary of TIG Holdings, completed a private offering
of $125 million of 8.597% capital securities. TIG Holdings issued $128.75
million in 8.597% Junior Subordinated Debentures to TIG Capital Trust I
(including approximately $3.75 million with respect to the capital contributed
to the Trust by TIG Holdings).
Shareholders' Equity. Shareholders' equity increased by $40 million during the
first six months of 1998, primarily due to $63 million in net income and $10
million in common stock issued partially offset by $18 million of common stock
repurchases, and $17 million of common and preferred stock dividends. Book value
per share increased to $23.60 at June 30, 1998 from $22.82 at December 31, 1997.
Excluding the impact of unrealized investment gains, the book value per share
would have been $21.69 at June 30, 1998 and $20.90 at December 31, 1997.
As of June 30, 1998, the Board of Directors has authorized common stock
repurchases of up to 18.75 million shares of TIG Holdings common stock. Under
the repurchase plan, repurchases may be made from time to time on the open
market at prevailing market prices or in privately negotiated transactions.
Through June 30, 1998, 16.3 million shares have been repurchased (24% of total
issued and outstanding including treasury shares at June 30, 1998) at an average
cost per share of $28.34, for an aggregate cost of $461 million.
In February and May 1998, TIG Holdings paid quarterly stock dividends of $0.15
per share, the same as the quarterly dividend rate for 1997.
24
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.9 YEAR 2000
- --------------------------------------------------------------------------------
The Year 2000 issue relates to the ability or inability of computer systems to
properly interpret date information for the year 2000 and beyond. Many existing
computer programs, including TIG's, use only the last two digits to refer to a
year (i.e. "98" is used for 1998). Therefore, these computer programs may not
properly recognize a year that begins with "20" instead of the familiar "19". If
not corrected, these computer applications could fail or create erroneous
results.
The insurance business, by its nature, is date sensitive. Proper processing of
core policy and claims data is dependent upon correct policy effective dates,
policy expiration dates, endorsement dates, premium payment dates, loss dates,
loss report dates, and the like. Inaccurate date processing of policy, claims
and other information could have a significant adverse impact on the conduct of
TIG's daily business operations and the preparation of accurate financial
information. Processing of policies expiring in Year 2000 will begin in the
fourth quarter of 1998. TIG believes that the failure to make its systems Year
2000 compliant could result in a material disruption of its operations
commencing at the end of 1998.
TIG has conducted a review of its core procressing computer systems, including
computer hardware and software vendors, to identify and address all code
changes, testing and implementation procedures required to make its systems Year
2000 compliant. The Company has instituted a centralized process to facilitate
the necessary changes, testing and implementation procedures. While the Year
2000 system remediation project has fallen slightly behind schedule, TIG expects
all necessary modifications and testing of its computer systems to be completed
by the end of 1998. As of June 30, 1998, TIG had completed the required code
changes phase of its Year 2000 system remediation project. The system testing
phase is expected to be completed by September 30, 1998 and the user testing
phase is anticipated to be completed by December 31, 1998.
TIG currently estimates that approximately $5 to $10 million will be expensed
for services rendered by outside vendors related to Year 2000 system
modifications, of which approximately $3 million has been expensed for those
services inception to date. The aggregate Year 2000 system project costs are
expected to represent less than 10% of TIG's 1998 information systems budget.
Substantially all of the amounts expensed on Year 2000 system modifications have
been used for software remediation and testing. To date, TIG's Year 2000 system
project has not caused any significant delays in other key information system
projects.
TIG also has significant business relationships with numerous third parties
(other than computer software and hardware vendors discussed above) that impact
virtually all aspects of TIG's business including without limitation, general
agents and brokers which produce and service policies, third party
administrators which provide services such as claims adjusting, banks, general
suppliers and facility related vendors. In the event that one or more key third
parties are unable to make their systems Year 2000 compliant, TIG's operations
could suffer a material adverse impact. Currently, TIG does not have substantive
information concerning the Year 2000 compliance status of such entities. TIG has
instituted a centralized process to indentify key third parties, request
information regarding Year 2000 compliance, assess potential risk based upon
responses received, and determine any action required to mitigate potential
risks. TIG has commenced mailing initial information requests to key third
parties and expects to complete the initial mailing by October 1998. Evaluation
of the third party responses and determination of any action required is
expected to be completed by March 1999. TIG currently cannot estimate the
aggregate costs related to ascertaining third party Year 2000 compliance.
Expenses to evaluate third party Year 2000 compliance to date are less than $1
million.
In addition, TIG's policyholders may incur Year 2000 related losses. Generally,
the type of problems expected to arise from the Year 2000 issue will be business
risks rather than insurable risks. However, there is the possibility that TIG's
policies may be reformed by judicial decisions, to cover unforeseen liabilities
relating to Year 2000 claims. TIG is unable to determine whether Year 2000
claims will be held to have merit or whether such claims will have a material
impact on TIG's financial results. To date, TIG has not incurred any losses
relating to Year 2000 claims unders its insurance and reinsurance policies.
25
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.10 FORWARD-LOOKING STATEMENTS
- --------------------------------------------------------------------------------
TIG Holdings would like to caution readers regarding certain forward-looking
statements in the Management's Discussion and Analysis and elsewhere in this
Form 10-Q. Statements which are based on management's projections, estimates and
assumptions are forward looking statements. The words "believe", "expect",
"anticipate" and similar expressions generally identify forward-looking
statements. While TIG Holdings believes in the veracity of all statements made
herein, forward-looking statements are necessarily based upon a number of
estimates and assumptions that, while considered reasonable by TIG Holdings, are
inherently subject to significant business, economic and competitive
uncertainties and contingencies, including without limitations:
changes in interest rates which could impact investment yields, the
market value of invested assets and ultimately product pricing
changes in the frequency and severity of catastrophes which could
impact net income, reinsurance costs and cash flow
increased competition (on the basis of price, services, or
other factors) which could generally reduce operating margins
regulatory and legislative changes which could increase the Company's
overhead costs, increase federal and state tax assessments, restrict
access to profitable markets or force participation in unprofitable
markets
delays in regulatory approvals for rate and form filings
changes in ratings assigned to TIG which could impact demand for the
Company's products
changes in loss payment patterns which could impact cash flow and net
investment income
changes in estimated overall adequacy of loss and LAE reserves which
could impact net income, statutory surplus adequacy and management's
decision to continue certain product lines
changes in general market or economic conditions which could impact
the demand for the Company's products and loss frequency and severity
for certain lines of business
loss of key management personnel which could impact the development
and execution of the Company's business strategy and impact key
customer and vendor relationships
inability of the Company or third parties with whom the Company has
material relations, to address Year 2000 issues on a timely basis
Many of these uncertainties and contingencies can affect TIG Holdings' actual
results and could cause its actual results to differ materially from those
expressed in any forward-looking statements made by, or on behalf of, TIG
Holdings.
26
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
2.11 GLOSSARY
- --------------------------------------------------------------------------------
Catastrophe: An event that is designated to be a "catastrophe" by the Property
Claim Service Division of American Services Group, an industry body. It
generally defines events which are estimated to cause more that $5 million in
insured property damage and which affect a significant number of insureds and
insurers.
Combined ratio: A combination of the underwriting expense ratio, the loss and
LAE ratio, and the policyholder dividends ratio, determined in accordance with
statutory accounting practices. A combined ratio below 100% generally indicates
profitable underwriting results. A combined ratio over 100% generally indicates
unprofitable underwriting results.
Facultative Reinsurance: The reinsurance of all or a portion of the
insurance coverage provided by a single policy. Each policy reinsured is
separately negotiated.
Finite reinsurance: Reinsurance that contains an ultimate negotiated limit of
risk to the reinsurer with respect to minimum and maximum exposure. This form of
reinsurance can be used to mitigate the financial volatility of new programs, or
cover exposure to large deductibles under other reinsurance treaties. It can
also be used to provide surplus relief or loss development protection.
Gross premium written: Total premium for direct insurance written and
reinsurance assumed during a given period.
Incurred but not reported ("IBNR") reserves: Reserves for estimated losses and
LAE which have been incurred but not reported to the insurer (including future
developments on losses that are known to the insurer).
Incurred losses: The total losses sustained by an insurance company under a
policy or policies, whether paid or unpaid. Incurred losses include a provision
for claims that have occurred but have not yet been reported to the insurer.
Loss adjustment expenses ("LAE"): The expenses of settling claims, including
legal and other fees, and the portion of general expenses allocated to claim
settlement costs.
Loss development: The emergence of actual loss data as compared to estimate for
specific accident years and for specific lines of business.
Loss and LAE ratio: The ratio of incurred losses and LAE to earned premium,
determined in accordance with statutory accounting practices.
Loss and LAE reserves: Liabilities established by insurers and reinsurers to
reflect the estimated cost of claims payments that the insurer will ultimately
be required to pay in respect to insurance or reinsurance it has written.
Reserves are established for losses and for LAE, and consist of case reserves
and IBNR reserves.
Net premium earned: The portion of net premium written in a particular period
that is recognized for accounting purposes as income during that period.
27
<PAGE>
TIG HOLDINGS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Net premium written: Direct premium written plus premium on assumed reinsurance
less premium on ceded business for a given period.
Policyholder dividend ratio: The ratio of dividends paid to policyholders to
earned premium determined in accordance with statutory accounting practices.
Program business: Tailored products developed for a particular industry segment
(i.e., sporting events, railroads) or distribution system (i.e., trade
associations, affinity groups). Programs are often developed and controlled by
managing general agents.
Reinsurance: The practice whereby one party, called the reinsurer, in
consideration of a premium paid to it agrees to indemnify another party, called
the reinsured, for part or all of the liability assumed by the reinsured under a
policy or policies of insurance which it has issued. The reinsured may be
referred to as the original or primary insurer, the direct writing company, or
the ceding company. Reinsurance does not legally discharge the primary insurer
from its liability to the insured.
Retention; Retention level: The amount or portion of risk which an insurer or
reinsurer retains for its own account. Losses in excess of the retention level
are paid by the reinsurer or retrocessionaire. In pro rata treaties, the
retention may be a percentage of the original policy's limit. In excess of loss
reinsurance, the retention is a dollar amount of loss, a loss ratio, or a
percentage of loss.
Reverse flow business: Alternative distribution mechanism whereby general agents
submit program business to a reinsurer. The reinsurer then works with a
reinsurance intermediary to provide a primary insurer to the transaction who
will issue the primary policy and then cede a significant portion of the risk to
the reinsurer.
Treaty reinsurance: The reinsurance of a specified type or category of risks
defined in a reinsurance agreement (a "treaty") between a primary insurer or
other reinsured and a reinsurer. Typically, in treaty reinsurance, the primary
insurer or reinsured is obligated to offer and the reinsurer is obligated to
accept a specified portion of all such type or category of risks originally
underwritten by the primary insurer or reinsured.
Underwriting: The insurer's process of reviewing applications submitted for
insurance coverage, deciding whether to accept all or part of the coverage
requested and determining the applicable premium.
Underwriting expense ratio: The ratio of underwriting expenses to net premium
written, determined in accordance with statutory accounting practices.
Underwriting expenses: The aggregate of policy acquisition costs, including
commissions, and the portion of administrative, general, and other expenses
attributable to underwriting operations.
Underwriting results: The measure of profitability of the insurance operations
of an insurer, calculated as the result of earned premium, less losses, loss
expenses, and underwriting expenses. Underwriting results is an indicator of a
company's underwriting success.
Workers' compensation insurance: Insurance that covers medical care,
rehabilitation, and lost wages of employees who suffer work-related injuries,
and provides death benefits for dependents of employees killed in work-related
accidents.
28
<PAGE>
TIG HOLDINGS, INC.
PART II. OTHER INFORMATION
- --------------------------------------------------------------------------------
ITEM 1. LEGAL PROCEEDINGS
- --------------------------------------------------------------------------------
TIG's insurance subsidiaries are routinely engaged in litigation in the normal
course of their business. As a liability insurer, the Company defends
third-party claims brought against its insureds. As an insurer, the Company
defends against coverage claims.
On January 11, 1994, a Los Angeles County Superior Court jury returned a verdict
of $28 million for punitive damages against TIG Insurance Company ("TIC") in
Talbot Partners v. Cates Construction, Inc. and TIC (the "Talbot Case"). The
award arose out of TIC's handling of a surety bond claim on a construction
project. On March 28, 1997, the California Court of Appeals reduced the trial
court's punitive damage award to $15 million. On July 23, 1997, the California
Supreme Court granted TIC's petition to review the Court of Appeals' decision.
Management believes that the ultimate liability arising from the Talbot Case
will not materially impact consolidated operating results.
TIG's Federal income tax returns are routinely audited by the Internal Revenue
Service (IRS) and provisions are made in the financial statements in
anticipation of the results of these audits. Following a routine federal income
tax audit by the IRS, in September 1997, the IRS issued a Statutory Notice of
Deficiency for the tax year 1993 and a Revenue Agents Report for 1994 asserting
a tax liability of approximately $170 million excluding interest. The IRS's
asserted tax adjustments principally relate to the acquisition made by TIG under
the Section 338(h)(10) election of April 27, 1993 in conjunction with TIG's
Initial Public Offering and primarily generate temporary differences by creating
income in 1993 with corresponding deductions in 1993 and future tax years. TIG
strongly disagrees with the IRS's position and, on December 11, 1997, TIG filed
a Tax Court Petition challenging it. In connection with the Statutory Notice of
Deficiency issued by the IRS for the 1993 tax year, TIG made a $40 million
advance tax payment in December 1997, that has been reflected as a current tax
asset. While the timing of cash tax payments may be impacted, management
believes that revisions to TIG's recorded tax liability, if any, arising from
the IRS's audit will not materially impact consolidated net income or the
financial condition of the Company.
On February 12, 1998, a purported class action complaint, naming TIG and two of
its executive officers as defendants, was filed in the United States District
Court for the Southern District of New York on behalf of persons who purchased
TIG common stock during the period from October 21, 1997 to January 30, 1998,
when TIG announced its fourth quarter 1997 results. The complaint alleges that
TIG violated the federal securities laws by misrepresenting the adequacy of its
underwriting and monitoring standards and loss reserves, and that five of its
officers and directors sold shares at prices that were artificially inflated as
a result of the alleged misrepresentations. Plaintiffs seek unspecified monetary
damages, including punitive damages. Management believes that the lawsuit is
without merit and it will be vigorously defended.
29
<PAGE>
TIG HOLDINGS, INC.
PART II. OTHER INFORMATION
- --------------------------------------------------------------------------------
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- --------------------------------------------------------------------------------
At the Company's annual meeting of stockholders on April 30, 1998, the
stockholders elected two director's each for terms expiring at the annual
meeting of stockholders in the year 2001. The voting results are as follows:
Election of Director for a term expiring in 2001:
For Withheld
---------- --------
George B. Bietzel 45,030,267 270,312
George D. Gould 45,035,219 265,360
Directors whose terms continued and the years their terms expire are as follows:
Joel S. Ehrenkranz (2000)
The Rt. Hon. Lord Moore (2000)
William W. Priest, Jr. (2000)
Ann W. Richards (2000)
Jon W. Rotenstreich (1999)
Harold Tanner (1999)
The stockholders ratified the appointment of Ernst & Young LLP to serve as
independent auditors of the Company for the year 1998. The voting results are as
follows:
Abstain and
Broker
For Against Non-Votes
---------------- ----------------- ---------------
45,063,132 103,161 134,286
30
<PAGE>
TIG HOLDINGS, INC.
PART II. OTHER INFORMATION
- --------------------------------------------------------------------------------
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- --------------------------------------------------------------------------------
(a) Exhibits:
Exhibit 3.1: Amended and Restated Certificates of Incorporation of TIG
Holdings as filed with the Delaware Secretary of State on April 16, 1993
(incorporated by reference to Exhibit 3.1 to TIG Holdings' Quarterly Report
on Form 10-Q for the quarter ended March 31, 1993, Commission File No.
1-11856).
Exhibit 3.2: Amended and Restated Bylaws of TIG Holdings as adopted by TIG
Holdings' Board of Directors on May 18, 1993 (incorporated by reference to
Exhibit 3.2 to TIG Holdings' Registration Statement on Form S-8, File No.
33-63148).
Exhibit 4.1: Certificate of Designation of TIG Holdings relating to the
$7.75 Cumulative Preferred Stock of TIG Holdings as filed with the Delaware
Secretary of State on April 16, 1993 (incorporated by reference to Exhibit
4.1 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended
March 31, 1993, Commission File No. 1-11856).
Exhibit 4.2: Indenture dated as of April 1, 1995 between TIG Holdings and
the First National Bank of Chicago, as Trustee (incorporated by reference
to Exhibit 4.2 to Registration Statement No. 33-90594, filed March 24,
1995).
Exhibit 4.3: Junior Subordinated Indenture, dated January 30, 1997, between
TIG Holdings, Inc. and The Chase Manhattan Bank, as Trustee (incorporated
by reference to Exhibit 4.3 to TIG Holdings' Quarterly Report on Form 10-Q
for the quarter ended March 31, 1997).
Exhibit 4.4: Certificate of Trust of TIG Capital Trust I, dated January 24,
1997 between TIG Holdings, Inc. and The Chase Manhattan Bank, Chase
Manhattan Bank Delaware, as Trustees (incorporated by reference to Exhibit
4.4 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended
March 31, 1997).
Exhibit 4.5: Capital Securities Guarantee Agreement, dated January 30,
1997, between TIG Holdings, Inc. and The Chase Manhattan Bank, as Trustee
(incorporated by reference to Exhibit 4.5 to TIG Holdings' Quarterly Report
on Form 10-Q for the quarter ended March 31, 1997).
Exhibit 4.6: Trust Agreement, dated January 24, 1997, between TIG Holdings,
Inc. and The Chase Manhattan Bank, Chase Manhattan Bank Delaware, as
Trustees (incorporated by reference to Exhibit 4.6 to TIG Holdings'
Quarterly Report on Form 10-Q for the quarter ended March 31, 1997).
Exhibit 4.7: Amended and Restated Trust Agreement, dated January 30, 1997,
between TIG Holdings, Inc., the Administrators named therein and The Chase
Manhattan Bank, Chase Manhattan Bank Delaware, as Trustees (incorporated by
reference to Exhibit 4.7 to TIG Holdings' Quarterly Report on Form 10-Q for
the quarter ended March 31, 1997).
Exhibit 4.8: Form of Capital Securities Certificate of TIG Capital Trust I,
(included as Exhibit E to Exhibit 4.7).
(b) The Company did not file any reports on Form 8-K during the three months
ended June 30, 1998.
31
<PAGE>
TIG HOLDINGS, INC.
SIGNATURES
- --------------------------------------------------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: August 14, 1998 TIG HOLDINGS, INC.
By: /s/CYNTHIA B. KOENIG
Name: Cynthia B. Koenig
Title: Controller
(Principal Accounting Officer)
By: /s/LOUIS J. PAGLIA
Name: Louis J. Paglia
Title: Executive Vice President,
Chief Financial Officer and
Treasurer
(Principal Financial Officer)
32
<PAGE>
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